Chapter 4 - Chapter 4: 1. What makes a decision...

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Chapter 4: 1. What makes a decision “strategic?” Answer: Strategic decisions are consequential, meaning they involve substantial commitments of time and resources. Strategic decisions are both active and reactive: they consider possible reactions of others who may have competing or complementary objectives and who are also capable of acting strategically. Strategic decisions limit the range of future actions, and therefore are not costlessly reversible. 2. What are the differences between financial options and real options? Answer: Financial options include the right to buy (a call) or right to sell (a put) a financial asset. They are “bets” on future prices of assets. A real option is the right to take an action (or not) and involve commitment of real resources (i.e., non-financial assets). 3. What kinds of “real options” might an entrepreneur consider when starting a new business? Identify three and also identify a financial option that is analogous to each. Answer: The option to wait to invest : sometimes the entrepreneur has a real option to wait and not invest until some uncertainty surrounding the venture is resolved. This type of real option is similar to a financial call option. The amount of the investment that has been postponed is the exercise price of the call option, the waiting period is the maturity date, and the expected risk of the venture is its volatility. The option to expand : it is the option to increase the amount of the investment after the initial investment has been made. The option to expand is similar to a
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This document was uploaded on 08/29/2009.

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Chapter 4 - Chapter 4: 1. What makes a decision...

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